More QE? Rate Hikes? Opposites Attract?

The entire financial world is holding its breath to see what the Federal Reserve decides to do at its next meeting in December. After having postponed a rate hike several times, it’s now increasingly likely a decision to increase the benchmark interest rates has been reached. At least, that’s what the market is currently taking into consideration based on the data of the Fed Funds Futures:

Source: CME Group

As you can see, the odds are clearly in favor of a rate hike, as there’s a chance of less than 26% the Fed won’t do anything, whilst a minority expects a two-step hike (which doesn’t seem very likely to us).

But the world is much bigger than just the United States and even though the financial press is all over the rate hike (as they have been in the past 12 months or so), other countries are taking other measures. The Bank of England has started a new Quantitative Easing program, whilst the ECB is expected to continue its asset purchases beyond its self-proclaimed March 2017 target. These things aren’t a surprise, but it’s really interesting to see that the only place where inflation seemed to have been picked up is the United Kingdom.

Source: Danske Bank

The slightly higher inflation numbers caused a small sell-off on the bond markets as traders are repositioning itself for a (slightly and temporary?) higher interest rate which will reduce the fair value of bonds based on the mark-up to the benchmark rates. That’s an interesting fact but definitely not alarming yet considering several short-term yields are still negative and even companies with a riskier business profile are still able to borrow cash at dirt-cheap levels. Even countries with a huge balance deficit like Saudi Arabia have been able to raise billions, and despite the fact the entire economy is oil-driven, the yield on a 30 year Saudi Arabia bond was just 4.5%, just 1.25% higher than a 10-year bond…

The world is still flooded with cash, but outside of the main financial markets, Sweden thinks it needs to do more to keep its economy going. The Riksbank, the Swedish version of the Federal Reserve, has cut its inflation forecast whilst keeping its employment expectations and growth forecast stable. To ensure a stable financial system, the Riksbank has now decided to reduce the repo rate path by quite a substantial difference.

Source: Danske Bank

So all western countries are expanding their monetary asset base, but surprisingly, Russia hasn’t cut its interest further from the 10% where it’s currently at. That’s surprising because one would think the Russian economy is improving on the back of the increasing oil price which strengthens the Ruble and allows more dollars to flow into Russia as the country exports several million barrels of crude oil per day.

The Russian Central Bank has set a target to keep the inflation rate below 4%, and is still aiming to reach that specific interest rate by the end of next year after seeing the core price inflation peak at almost 20% in the middle of the oil crisis.

Source: tradingeconomics.com

Long story short, there are so many mixed signals in the world, and the financial system as we know it is shaking to its foundations.

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